Can I Refinance a Home That Has Been in Modification?

Debt and bad credit can prevent refinancing after a loan modification.

A borrower might receive a loan modification if he proves to his lender that he can afford lower payments and has a legitimate financial hardship. Typically, lenders don't approve modifications unless you stand a better chance of repaying the debt under modified terms. Whether you can refinance a home loan that was previously modified depends on your present financial circumstances, your loan modification conditions, the amount of time since your modification and whether changes in the interim make refinancing feasible.

Income, Assets and Equity

If your loan modification was due to financial hardship such as divorce, increased expenses, reduced income or another temporary financial setback, and you've recovered, your income and assets may have improved. To refinance a loan's interest rate and repayment terms, the refinance lender requires you to have stable income and total monthly expenses within 40 percent of your gross monthly income. To cash out in a refinance, that is, to tap into a limited amount of your home's equity, your income may have to be higher and your home must have substantial equity -- at least 25 percent, according to standard Fannie Mae eligibility guidelines.

Loan Modification Conditions

Loans that undergo a principal reduction, in which the lender reduces the overall loan balance to make the payments affordable, are generally not eligible for a refinance. Such modification agreements stipulate that you have to repay the amount the lender writes off if you later refinance or sell the home. This protects the lender from unnecessary losses and keeps borrowers from pocketing the equity produced after a principal reduction. You're more likely to obtain a refinance if your loan modification entailed a temporarily or permanently reduced interest rate, a loan-term extension, or deferment, in which the lender tacked missed payments or interest on part of the principal balance to the back of the loan.

Missed Payments and Credit Hits

Loan modifications are often arduous and drawn out. The process entails proof of hardship, and for many lenders, that means missed payments. If you missed payments in the months leading up to your modification, your credit took a hit. Your credit score dropped, likely by several hundred points, and your lender reported the modification to the credit bureaus. Credit scores take time to recover from mortgage troubles, typically about two years. A refinance requires no missed payments for at least one or two years, and a minimum credit score, typically at least in the mid- to high-600s. Sufficient time must elapse between the modification and your application to meet most of the minimum eligibility requirements for a refinance.

Changes in Your Favor

Positive changes that can help you obtain a refinance after a modification include increased property values. With substantial equity, a refinance lender bears less risk because it finances a proportionately lower amount relative to property value. In general, 20 percent equity after a refinance is considered a healthy amount of equity. Increased income, minimal monthly expenses and improved credit scores can also help you qualify for a refinance. Additionally, lenders continually introduce new loan programs and financing opportunities, therefore, you may see more lenders willing to refinance your modified loan when market conditions are improving.